This article first appeared in the Banking Review
Altered dynamics in the macro environment, the emergence of new technologies, stricter regulations, and the increasing role of the customer, have ensured that banks are under pressure and are running into difficulties. The traditional model of banking based on net interest income, without a focus on the added value for the customer, is no longer tenable. In addition, banks are no longer the only logical supplier of money for businesses and are being overtaken by innovative competitors. So what is needed to guide banks through these challenges?
The hangover will come later
The problems that banks face seem relatively limited to outsiders. Due to the generosity of central banks through quantitative easing and growth in emerging markets like China that is stimulating the global economy, banks are still not being confronted with the hangover they now are developing by continuing to rely on their traditional models. This reliance is not a wise move because it will be more expensive for banks to maintain their balances due to extremely low interest rates and stricter regulations on capital. This will have consequences for their strength in their traditional markets.
The advent of Basel IV, even though most of the measures have yet to come into effect, is also making banks take less risk due to the crisis and need to comply with minimum capital requirements. In addition, the European Union Capital Markets rules provide freer access for companies (including SMEs) to alternative funding. In addition PSD II will have an impact on customer relationships.
Banks already spend 60 to 70 per cent of their annual budget on regulatory changes, this will increase even further due to dozens of new legislative initiatives in Europe. Beside the macro-economic and regulatory factors, technology is also bringing uncertainty, with many disruptive innovations coming from small startups. For big banks it is hard to match the speed of the FinTech startups operational model.
How to deal with the changes
Agile organisational models are being introduced to effectively respond to changing market conditions. Directed and controlled by effective portfolio management, the speed of change increases and new opportunities can be observed, identified and realised. As a result, thematic risks and hidden delivery inefficiencies are continuously visible and can be resolved.
To avoid unnecessary costs, it is essential that all changes are implemented to the delivery of products and services before the changes in legislation come into effect. Before that change the infrastructure must be adapted not only to anticipate regulatory changes, but also to stay ahead of competition. This may for example be through enhanced cooperation with the creators of the new rules, such as the Dutch Central Bank, the Bank of England or the Financial Conduct Authority (FCA).
On the revenue side banks can no longer afford to spend months planning for the changes. It is crucial for them to quickly develop products and services that can match new competitors like start-ups and modern FinTech. The capabilities needed to implement changes quickly and effectively should be strengthened, so that the customer is always served in the most innovative way. As well as agility, what is needed is to strengthen the data capability required for continuous improvement and service innovation and a new way of providing advice to secure the loyalty of customers.
Banks should embrace FinTech instead of ignoring it or fighting it with polished old products. They already have the advantage of a broader knowledge of products, existing legislation and economies of scale and this should work in their favour. Another way to deal with the changes in the market is specialisation. Focus on specific products, markets or industries.
In short, banks should operate in more agile ways, consolidate healthy activities and deal smartly with risks (which then frees up money that could be used for additional innovation), and become more resistant to the threat of FinTechs. This then takes the pressure off dealing with new regulations.
The key to managing change is not so much embedded in financial expertise - because that is plentiful - but in knowing and applying advances in IT, operations and marketing. The development of capabilities to anticipate legislation while maintaining compliance, and integrating innovations are also essential.
Mark Griep and Hans Burg are financial services experts at PA Consulting Group